50 Years Ago an Economist Worried About Unchecked Corporate Power. Here’s What His Theory Got Wrong

Tim Evans for HBR

This summer marks 50 years since the publication of John Kenneth Galbraith’s The New Industrial State and its quick rise to the top of the New York Times Best Seller list. The book was one of the rare instances where an economist was able to capture public imagination and focus debate on big-picture economic issues. We have only rarely seen its like since — although Thomas Piketty gave it a great go in 2014, with Capital in the Twenty-First Century.

Galbraith’s book is worth revisiting, since its subject is back in the news. Like many people today, he was worried about unchecked corporate power. Yet with the benefit of hindsight, we can see his worries were largely wrong. And therein lies a lesson for economists and policy makers today.

Of course, you would be hard-pressed to find an economist today who has read the book, and you might even find some who have never heard of Galbraith. I’m not one of them. As an undergraduate in Australia, I was exposed to a nonstandard economic curriculum that introduced writers like Galbraith to me early. He had a crisp way of theorizing and took on issues that, let’s face it, seemed far more interesting than the standard textbook fare. I wanted to grow up to be like him. It took four years of graduate school to socialize me out of that aspiration. And so when I recalled this anniversary, I decided to crack open Galbraith’s most famous book with the intention of explaining just how wrong he got it.

What I found was not some laughable tome but a well-argued, if somewhat polemic, work. It was “big think” book, positing a grand theory, and while one could easily nitpick the evidence, that didn’t make it any less thought-provoking. Galbraith theorized that without governmental check, large corporations would end up controlling the U.S. economy and polity. That check never came, but neither did the outcome that Galbraith’s theory predicted. Yet his theory was so neatly laid out that I wondered why it had failed.

You actually don’t have to read The New Industrial State to understand its story. Galbraith observed, as others had done before him, that the 20th-century U.S. economy did not look like the economy before. For large swaths of economic activity, there was no dog-eat-dog competitive world that dominate Economics 101 textbooks both then and today. Instead, key industries were dominated by few very large firms — and sometimes even just one. And if you landed from outer space in 1967, those large firms looked like the planned bureaucracies on the other side of the Iron Curtain.

Why were those firms so large? Galbraith’s answer was that they needed to be so because technology required large amounts of capital to be deployed — think your large auto assembly, oil refineries, and chemical plants.

What did that mean? First, the owner-manager firms were not possible. Instead, firm ownership was distributed and were divorced from firm managers who had the incentives and skills of bureaucrats, and so created bureaucracy. Second, none of these people liked risk. So, unlike the bold entrepreneur who invested with guile and accepted risk for the promise of a high return, our manager-bureaucrats poured their efforts into risk reduction. They shied away from bold moves with large upside and saw rigidity as a potential goal rather than a problem.

Third, because managers were not incentivized to maximize profits, they looked for easier ways to get enough return to cover their costs. That mostly involved finding new ways to ensure demand for existing products, rather than inventing new ones. For some firms, that meant cozying up to government for big contracts available in the postwar era. For others, that meant utilizing newfound tools in marketing and persuasion to create demand from consumers. For all of them, it meant being supportive of active Keynesian-style demand management by government that kept the economy ticking along.

The implication of all this was clear: The ordinary American’s say in the economy was being hijacked by modern marketing, and their say in the democracy was being supplanted by large corporate needs.

It is a good theory. To be sure, it is built on a few assumptions that could easily be disputed. But the theory itself holds together. Unlike much of modern economics, it’s wonderfully simple to understand, and has sweeping implications. And I am sure some will have read to this point and wonder whether it didn’t actually all come true. The answer is that it didn’t, and let me explain why.

First of all, it was supposed to be the large corporations of 1967 that continued to dominate. By market value, the top 10 corporations 50 years ago were AT&T, General Motors, Standard Oil, IBM, Texaco, DuPont, Sears, General Electric, Gulf Oil, and Kodak. Today, they are Apple, Alphabet (Google), Microsoft, Amazon, Berkshire Hathaway, Facebook, Johnson & Johnson, Exxon Mobil, JP Morgan Chase, and Wells Fargo. That is quite a change, even though AT&T and General Electric are still on the list. Suffice it to say, the dominant corporations of 1967 did not have quite the control over their destinies that Galbraith was convinced of. His theory predicted that the most valuable companies would be those with the most revenue to spend on large capital investments and workforces. That turned out not to be the case. The winners today aren’t Galbraithian.

Second, in terms of the entire corporate sector, in real terms (and adjusted for economic growth), the most valuable corporations today are no more valuable than their 1967 counterparts. We have not seen corporations grow in dominance as Galbraith predicted.

Thus the very foundation of The New Industrial State did not hold. But why? Here is my own conjecture: In 1967 the scale of the large, centrally planned U.S. corporation had largely reached its limit. After that point, growth required more than finding additional demand. Indeed, there is only so much you can get from modern marketing (although government demand may be another matter). Eventually, further growth became more expensive, cutting into corporate profits.

For Galbraith, that was not supposed to be a concern because the owners of capital were fragmented and powerless and would just have to put up with low returns. Somewhat ironically, Galbraith missed a big countereffect: Capital organized and aggregated itself. Today large funds (like BlackRock and Vanguard) dominate the stock market. Private equity firms bought up common stock and intervened in management (one of those being Berkshire Hathaway, now on the top 10 valuable companies list). The effect of that was to break up the bureaucracy through outsourcing (facilitated by globalization). Capital requirements were managed. Sales growth stalled. In other words, Big Capital became a counterweight to Big Corporate. That Galbraith missed this is somewhat ironic because it was perfectly consistent with his worldview as espoused in an earlier book: American Capitalism. That book described how big groups of large firms and large unions managed the economy. It would not have taken much of a leap to see the rise of Big Capital.

One of the reasons Big Capital emerged was competition. As it turned out, technology that supposedly fueled the large corporation also fueled competitors. The competition came from outside the U.S. — first, notably, Japan, and now many others. It also came from new technologies, most recently the internet.

The New Industrial State as laid out by Galbraith was disrupted. But what we have in its place isn’t exactly anti-Galbraithian. For starters, the companies that do require large capital investments seem to still have quite a close relationship with government. Consider Wisconsin’s deals with Foxconn to underwrite its investment for perhaps two decades in the hope of local job creation. If Galbraith was writing today, that would be a prominent chapter in any updated edition.

Second, in 1967 future Nobel laureate Robert Solow (the economist’s economist — both then and now) savaged Galbraith on his underlying assumptions that consumer demand could be easily created through advertising. But two companies in the top 10 today (Google and Facebook) earn virtually all their revenues through advertising. Economists can argue that all this advertising is zero-sum, and not adding much to the economy, but the fact that so many businesses continue spending money on it should cause some doubt.

Finally, the big tech companies are Galbraithian in their way. Contrary to Galbraith, they are able to create large amounts of profit off very little capital expenditure. Yet each and every one of them has been berated for not acting in the interests of shareholders and instead pursuing the personal ambitions of their founders. The formula for a cozy and autonomous corporate life turned out to be not size and demand management but low cost and comfortable revenue sources.

In the end, we may not have a U.S. economy dominated by corporate technocrats, as Galbraith imagined. Instead, we have one dominated by the wealthy individuals who align themselves with Big Capital. If Galbraith were alive, he’d undoubtedly be concerned by this concentration of power. And this time his critic Robert Solow might share his worry.